Institute of Chartered Financial Analysts of India (ICFAI) University 2006 Certification Finance International and Trade – II - Question Paper

In case of settlement default in Indian rupee, counter-value US dollar funds are not to be released. Instead, if Indian rupee funds are not received by the next day, US dollar amounts held back are to be sold to organize for the needed Indian rupee amount. On the other hand, in case of a settlement default in US dollar, a principal risk for the respective amount is to arise. A provision to claw back funds from the defaulting participant's principal Indian rupee account with RBI also exists. In case the Indian rupee funds recovered are inadequate and the margin of the concerned member is also not adequate to take care of the likely loss, a provision exists for allocation of residual loss through a clearly designed and pre-notified loss allocation mechanism. The mechanism contains a provision for distribution of losses arising out of any settlement default to the bilateral counterparties, pro-rata, based on their exposures on the defaulting counterparty.

The settlement of Indian rupee/US dollar trade started initially with only spot and forward trades. Maximum time allowed for reporting by the settlement participants was up to the midday of the day prior to the settlement date. A day's time was initially kept available as a buffer for the participants to get used to the process. It was also felt that the specific interaction protocol which was developed with the ABN AMRO Bank as settlement bank, would need time to mature. The developed process was to be efficient with abilities on the part of CCIL to monitor the movement of every transaction through the account so that operational slippages did not reason any payment failure. The settlement system worked efficiently from the very beginning and the market participants reposed their confidence in the newly developed settlement system by shifting most of their trades to the system for settlement. RBI, as a regulator, was closely monitoring the development. They also played the role of a catalyst by arranging an independent vetting of the processes in 2003 by an expert from the European Central Bank which gave the comfort to the settlement participants about the robustness of the settlement and risk management processes.

Settlement of TOM and CASH trades i.e., trades with settlement on the next working day and on the identical working day respectively, started in February 2004. It needed significant restructuring of the processes and of the risk management systems. As CASH trades were allowed to be reported and matched in the CCIL system up to 12.30 pm of the day of settlement and the settlement participants were needed to settle the trades which were not taken up for guaranteed settlement by CCIL through direct settlement, maintaining time discipline regarding processing at CCIL was critical for the success of the system. On the part of settlement participants also, this demanded a much more efficient response. It was a big challenge, but the Indian Financial System took it almost effortlessly.

Earning:   Approval pending.